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Michael Haneke wanted to make a film set in the United States, but for practical reasons he had to set it in Austria.[3]

After the 2007 American remake directed by Haneke used the same house including props and tones, Robert Koehler of Cineaste wrote that this "proves for certain that—whether he uses the great cinematographer Jürgen Jürges (de) (for the 1997 version) or the great Darius Khondji (for the new film)—Haneke is fundamentally his own cinematographer exercising considerable control over the entire look of his films."[3]

The film begins with a wealthy Austrian family - Georg, his wife Anna, their son Georgie, and their dog Rolfi - arriving at their holiday home beside a lake in Austria. They spot their next-door neighbor Fred accompanied by two young Viennese men, Peter and Paul, one of whom Fred introduces as the son of a friend. The two men begin imposing themselves on the family's courtesy, and in the process destroy their phone and ruin all their eggs. Eventually a frustrated Anna demands that the men leave, asking Georg to eject them from the premises. Paul kills Rolfi, Peter breaks Georg's leg with the latter's golf club, and the two men take the family hostage, forcing the members to participate in games of pain and death.

Paul asks if the family wants to bet whether they will still be alive by 9:00 the next morning, though he doubts that they will win. Between playing their games, the two men keep up a constant patter, and Paul frequently ridicules Peter's weight and lack of intelligence. He relates contradictory stories of Peter's past. No definitive explanation of the men's origins or motives is offered. When some of the family's other neighbors arrive for a visit, Anna passes the men off as friends until the visitors leave — much in the same way Fred did at the beginning of the film. Georgie eventually escapes to the house next door, but finds the family dead. He attempts to shoot Paul with a shotgun, but it is not loaded. Paul returns him to the house, along with the gun. After a few more games, Peter plays a counting-out game between the family members and shoots Georgie while Paul makes sandwiches in the kitchen. After this, both intruders leave.

Georg and Anna weep for their loss, but eventually resolve to survive. Anna flees the house while Georg, with a broken leg, tries to get help with the malfunctioning phone. Anna struggles to find help, but eventually Peter and Paul reappear, capture her, and return to the house. They kill Georg and take Anna out on the family's boat early the next morning. Around 8:00, Paul casually throws the bound Anna into the water to drown, thus winning their bet. They dock at the house of the neighbors that had previously visited the family, and ask for some eggs, thereby restarting their cycle of murder.

The film frequently blurs the line between fiction and reality, especially highlighting the act of observation. The character Paul breaks the fourth wall throughout the film and addresses the camera in various ways. As he directs Anna to look for her dead dog, he turns, winks, and smirks at the camera. When he asks the family to bet on their survival, he turns to the camera and asks the audience whether they will bet as well. At the end of the film, when requesting eggs from the next family, he looks into the camera and smirks again. Only Paul breaks the fourth wall in the film, while Peter makes references to the formulaic suspense rules of traditional cinema throughout the film.

Paul also frequently states his intentions to follow the standards of movie plot development. When he asks the audience to bet, he guesses that the audience wants the family to win. After the killers vanish in the third act, Paul later explains that he had to give the victims a last chance to escape or else it would not be dramatic. Toward the end of the movie, he postpones killing the rest of the family because the movie has not yet reached feature length. Throughout the film, Paul shows awareness of the audience's expectations.

However, Paul also causes the film to go against convention on a number of occasions. In thrillers, one protagonist that the audience can sympathize with usually survives, but here all three family members die. When Anna successfully shoots Peter, as a possible start to a heroic escape for the family, Paul uses a remote control to rewind the film itself and prevent her action. After Georgie dies, Paul regrets killing him first because it goes against convention and limits the suspense for the rest of the film. At the end of the film, the murderers prevent Anna from using a knife in the boat to cut her bonds. An earlier close-up had pointed out the knife's location as a possible set-up for a final-act escape, but this becomes a red herring. At the end of the film, Paul again smirks triumphantly at the audience. As a self-aware character, he is able to go against the viewers' wishes and make himself the winner of the film.

After killing Anna, Peter and Paul argue about the line between reality and fiction. Paul believes that a fiction that is observed is just as real as anything else, but Peter dismisses this idea. Unlike Paul, Peter never shows an awareness that he is in a film.

Haneke states that the entire film was not intended to be a horror film. He says he wanted to make a message about violence in the media by making an incredibly violent, but otherwise pointless movie. He had written a short essay revealing how he felt on the issue, called "Violence + Media." The essay is included as a chapter in the book A Companion to Michael Haneke.[4]

Austrian critics argued that the intention was to undermine the heimat genre and its values, which are bourgeois and based on the home. European and English-language critics, according to Robert Koehler of Cineaste, "generally set their criticism against the backdrop of the American slasher movie that the film was subverting" and "expressed mild forms of outrage along with admiration".[3] In an interview, the film director and critic Jacques Rivette made his displeasure with the movie clear, calling it "a disgrace", "vile", and "a complete piece of shit."[5]

The version of Funny Games most widely available on DVD in the United States is not rated by the MPAA. Despite being unrated, the film features very little graphic violence and almost all of the death and mutilation occurs off-screen.